The initial installed cost for a new piece of equipment is $10,000. After the equipment has been in use for 4 years, it is sold for $7,000. The company that originally owned the equipment employs a straight-line method for determining depreciation costs. If the company had used the MACRS 5-year method for determining depreciation costs, the asset or book value for the piece of equipment at the end of 4 years would have been $1728. The total income tax rate for the company is 35% of all gross earnings. Capital gains taxes amount to 20% of the gain. How much net savings would the company have achieved by using the MACRS method instead of straight-line depreciation method?
Answer: $ 191.2 is net savings would the company have achieved by using the MACRS method instead of straight-line depreciation method
Working notes
We have been provided with the following information
piece of equipment is $10,000.
equipment has been in use for 4 years, it is sold for $7,000.
If the company had used the MACRS 5-year method ,book value forof equipment at the end of 4 years would have been $1728
income tax rate for the company is 35%
Capital gains taxes amount to 20%
Generally MACRS is a depreciation method that is used only for income tax purposes. MACRS follows the half-year convention.you only get one-half year of depreciation in the first year of ownership,regardless of when you purchased the asset during the year.
Depreiciation as per Macrs metod
| Year | Equipment | Rate | Amt of Depriciation |
| 1 | 1000 | 20 | 2000 |
| 2 | 1000 | 32 | 3200 |
| 3 | 1000 | 19.2 | 1920 |
| 4 | 1000 | 11.52 | 1152 |
| 5 | 1000 | 11.52 | 1152 |
| 6 | 1000 | 5.76 | 576 |
We will calculate depriciation as per straight line method as follow
| Year | Equipment | Rate | Amt of Depriciation |
| 1 | 1000 | 10 | 1000 |
| 2 | 1000 | 20 | 2000 |
| 3 | 1000 | 20 | 2000 |
| 4 | 1000 | 20 | 2000 |
| 5 | 1000 | 20 | 2000 |
| 6 | 1000 | 10 | 1000 |
The assets is sold at $ 7000
The value of property @ macrs method is 1728 (1152+576)
The value of property @ straight line method is 3000 (2000+1000)
Capital Gain in Macrs Metod
sale price $ 7,000
Book Value $ 1728
Gain $ 5272
Tax @ 20% $ 1054
Capital Gain in Straight Line Metod
sale price $ 7,000
Book Value $ 3000
Gain $ 4000
Tax @ 20% $ 800
Deprciation Tax Shild in both Method
| Year | Rate of TAx | Macrs Dep | DTS | STright line Dep | DTs |
| 1 | 35 | 2000 | 700 | 1000 | 350 |
| 2 | 35 | 3200 | 1120 | 2000 | 700 |
| 3 | 35 | 1920 | 672 | 2000 | 700 |
| 4 | 35 | 1152 | 403.2 | 2000 | 700 |
| Total | 2895.2 | 2450 |
Under Macrs Method
Depriciation Tax Shield is $ 2895.2
Less Capital Gain Tax $ (1054)
Net Gain 1841.2
Under Straight Line Method
Depriciation Tax Shield is $ 2450
Less Capital Gain Tax $ (800)
Net Gain 1650
Net Saving from Macrs Method Over Straight Line Method
Under Macrs Method $ 1841.2
Less : Under Straight Line $ (1650)
$ 191.2
